Suddenly a Bullish Case Builds for Europe's Unloved Assets
(Bloomberg) -- Stocks are “uniquely hated,” the currency can’t catch a break and Japanese-style economic stagnation apparently looms -- and yet calls to buy Europe are ringing.
Societe Generale SA became the latest big name to preach euro-area bullishness on Tuesday, recommending a series of trades to help clients position for growth surprises this year. Their counsel was well-timed: first-quarter gross domestic product data beat expectations a few hours later.
The French bank is joining the likes of Goldman Sachs Group Inc. and NatWest Markets, both of which have touted the chances of a European comeback in recent days.
The logic is simple: Given billions of outflows and beaten-up expectations, the only way here for Europe Inc. is up.
“Today’s published European economic growth numbers matched or slightly beat hopes, continuing the quiet positive surprise established in the last couple of weeks by the regional corporate earnings data,” said Chris Bailey, a European strategist at Raymond James in London. “With most global fund managers underweight despite relatively attractive valuation multiples, the rationale for the wise full-year investor to build European exposure remains.”
Europe’s hard data have proven “solid” in the first quarter of the year, according to SocGen, which forecasts GDP growth of 1.4 percent this year compared with an average of 1.1 percent.
Goldman Sachs upgraded its targets for the Stoxx Europe 600 Index last week, and on Monday said that China’s stabilizing economy will boost euro-area expansion “notably” in 2019. NatWest switched to a bearish view on German bunds amid signs of a recovery in the region.
Government bonds fell across Europe in the wake of the growth data on Tuesday, which showed expansion of 0.4 percent in the first quarter, versus economist expectations for 0.3 percent. The yield on benchmark German notes rose to 0.013 percent as of 4:50 p.m. in London, while the euro strengthened a third day to around $1.12.
It will all be music to the ears of the SocGen team, which recommended buying the euro versus the U.S. dollar with a target of 1.16 and a stop at 1.1095. They also predicted that peripheral bonds could outperform in a bund sell-off, because stronger growth would help steady the public finances of those riskier issuer countries at the margin.
That chimes with the view of some major money managers including Amundi and PGIM Fixed Income, who are piling into peripheral debt in expectation of a convergence trade.
“Markets, notably FX markets and, to a lesser extent bond markets, are not well positioned for renewed euro area growth,” SocGen strategists including Michel Martinez wrote in their report. “Expectations may have been overly influenced by the weakness of the PMI surveys, as well as the German industrial sector” along with poor economic data, trade tensions with the U.S. and risks such as Brexit, they said.
Those kinds of concerns have helped drive economic confidence in Europe to the lowest level in more than two years. Small wonder that Bank of America’s global fund-manager survey has shown that shorting European equities is one of the most-crowded current trades.
In fact the region’s stocks have posted outflows in the period since the Brexit referendum through last week of nearly $140 billion, even as the benchmark gauge has advanced. Investors expect the Stoxx Europe 600 Index to fall about 9 percent from Monday’s close to the end of the year, according to a Bloomberg poll published April 18.
“European growth can recover in the context of a global recovery,” said Benjamin Jones, a senior multi-asset strategist at State Street Global Markets in London. “However, I don’t think that means that European equities necessarily outperform U.S. or emerging markets. Valuations are not all that depressed in Europe and growth will continue to lag other regions.” A lack of big technology stocks and exposure to Europe’s troubled banks will also weigh on regional equities, he said.
SocGen acknowledged its optimism is at odds with many of its clients, and also noted that credit and equities look better positioned for economic surprises.
The Stoxx Europe 600 Index has gained almost 16 percent in 2019, not far behind the S&P 500’s 17 percent gain. Gauges tracking default swaps for both investment grade and high-yield bonds are both trading near the lowest in a year.
The strategists recommended maintaining an overweight position on high yield, going long European auto stocks and long euro-zone small caps.
“Our above-consensus euro area growth forecast for 2019 could extend out to the ‘pain trade’ for investors who continue to shun euro assets,” they wrote.
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